This week markets have offered us a carbon copy of markets last week: They generally went up, with Asian equities rising the fastest as they rebound from their mid-summer trouncing.
Tempting as it is just to reuse last week’s note, instead I’ll expand on something I mentioned in it: central bankers’ impact on investment returns. Because the big cheeses of central banking met up at Jackson Hole last Friday (well, they did a group Zoom). There was much speculation about what they’d say, and what it would do to markets. But in the end markets shrugged, suggesting they’d correctly guessed the content (or lack of it) within the US Fed Governor’s speech. Ho hum.
But out of the proceedings did come an interesting academic paper. It helps to answer two big questions you might rightly ask: 1) Why, despite the trifling matter of a global pandemic, do share prices keep rising? And 2) why, if central bankers are creating oodles of new money through “Quantitative Easing”, haven’t we seen inflation go through the roof?
If the paper is right, then it’s because most of the new money that’s being created is going to people who already have it: Central banks inject this new money into the economy by buying assets, so it stands to reason that those with fewer assets will benefit less than those with plenty.
Then we come to something I dimly remember from A-Level economics: “The Marginal Propensity to Consume” (stay with me). Basically, the more money you have, the lower your marginal propensity to consume. In other words; if you give money to richer people, they are more likely to save it, and less likely to spend it, than someone who has less money to start with.
This is why, the theory goes, we haven’t had runaway inflation in prices of everyday goods and services, which we might have assumed would follow the creation of tons of money. If, instead of buying stuff, that money is being saved, or invested into assets like shares or property, it explains why we’ve seen high inflation in the prices of those assets. In short: there’s a lot of money swimming about, and it’s all looking for somewhere to earn a decent return, pushing up prices as it goes.
So there you go. That’s why we in the investment world focus so much on what central bankers do and say. If this paper is to be believed, their past and current actions are behind rallying stock markets, as well as other assets like homes, art and fine wine. If they stay on the current tack, there’s good reason to believe this will continue. But if they change course, it’s reasonable to believe that, well, markets will change course too.
Here endeth the note. Less of a ‘The Week in Markets’, and more of a ‘The Decade in Markets’ this time. But hopefully, with the summer holidays ending, we can get back to shorter-term gyrations, which are less brain-bending than the long-haul stuff, and easier to digest of a Friday afternoon.
Until then, have a great weekend.
Simon Evan-Cook
(On Behalf of Raymond James Barbican)
With investing, your capital is at risk. The value of investments and the income from them can go down as well as up and you may not recover the amount of your initial investment. Certain investments carry a higher degree of risk than others and are, therefore, unsuitable for some investors.